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Secondary Concerns Could Plague NYSE

A bid for the London Stock Exchange might bug shareholders waiting to cash out.

Time is emerging as perhaps the biggest obstacle in the

New York Stock Exchange's

quest for world domination.

With its newly minted shares surging and a legendary dealmaker at the helm,

NYSE Group


would seem poised to pounce when it comes to executing its global ambitions. World stock markets are converging, and what better name than the Big Board's to bear the standard -- both at home and abroad?

In reality, however, the NYSE finds itself playing catch-up to its longtime rival, the

Nasdaq Stock Market


, which already owns 15% of what many consider the next major quarry in market M&A, the London Stock Exchange. Observers expect the Nasdaq's stake to rise, as a waiting period expires under British rules governing the pace of share accumulations.

That expiration apparently has spurred the NYSE to action. Reports in London this week say NYSE officials have been meeting with two big LSE shareholders, D.E. Shaw and the Scottish Widows Investment Partnership, in an effort to woo them to the Big Board's side. Still, with Nasdaq's stake in London liable to double to 30% any day, NYSE officials could be prevented from responding by a drama playing out back in New York.

The issue is a secondary offering by NYSE shareholders that the exchange plans to facilitate sometime in the next month. The deal, a cornerstone of the NYSE's corporate finance strategy, will allow longtime owners, including many seatholders of the exchange, to cash out in a relatively hot market for their shares. CEO John Thain has used the secondary offering as a carrot in his efforts to modernize the NYSE, and many believe he would be loath to ruffle colleagues' feathers by carrying out any dilutive takeovers before the deal clears the books.

The problem is, time is a luxury Thain can't afford while trying to manage an overseas takeover battle.

"These assets aren't going to be available in the future," says Phil Guziec, equity analyst at Morningstar, referring to the LSE and other major exchanges that could be in the NYSE's sights. "A few of the key players are available now, so timing is of the essence."

At this stage, the scheduling of the secondary offering looks key. According to sources, the NYSE has asked former seatholders to respond by 6 p.m. EDT Friday with formal notification of how many shares they plan to sell in the deal. Knowledgeable people told

that the company is meeting with analysts Friday, a sign that the roadshow for the offering could be imminent.

The NYSE has not publicly commented on the timing of the deal. It also wouldn't comment on whether it would consider postponing it in the name of waging a more concentrated battle for the LSE.

"If it were necessary to postpone the secondary, Thain would," Guziec says. "But if he were given the choice between making an acquisition and doing the secondary, he would do the secondary first."

To be sure, Thain would have angry shareholders to answer to if he went ahead with a bid for the LSE before they had a chance to sell out. "People would go crazy," said one insider who asked to remain unnamed because of his involvement in the secondary.

Another issue is the steep valuation currently afforded the NYSE's stock in public markets. NYSE shares are trading around $74, down from the $90.35 high shortly after the company merged with Archipelago. Using a 2007 consensus estimate from Thomson Financial, the stock sports an earnings multiple of 35.5. Right now, the shares would make an attractive currency to acquire the LSE -- at least for the acquirer. Waiting for the secondary -- in which $100 million worth of shares are technically registered, but where far more could easily be sold -- could mean waiting for a lower stock price before even more dilution in a potential bid for the LSE.

These are thorny questions for a company that, despite its two-century pedigree, is making its first independent foray into U.S. capital markets with the upcoming stock sale. The current NYSE Group was forged through a reverse merger with Archipelago Holdings. As a result, unlike most publicly traded firms, it has no previous offering by which to judge how the stock might be received.

Wall Street already has doubts about the shares' high valuation. Of the two analysts who follow the NYSE, one has a sell rating and the other a market perform.

"The stock is trading where it is based on non-fundamental reasons," says Richard Herr, equity analyst at Keefe, Bruyette & Woods. "Right now, the market is trying to handicap different deals and permutations. It's hard to value these stocks based on fundamentals alone."

Still, nobody counts the NYSE out with Thain in its corner. The former

Goldman Sachs

president shouldn't have any problem getting the secondary sold, and after that, his formidable credentials as a dealmaker will strike a measure of fear into potential competitors.

"Whatever needs to be done, Thain will do," Guziec says. "But it certainly is a tough balancing act."

One positive for the NYSE is its significant advantage over Nasdaq with regard to financing. Right now, the NYSE has a market capitalization of about $11 billion, almost three times that of Nasdaq. It has no debt, compared with Nasdaq's $1.6 billion outstanding, according to S&P estimates, including the credit facility the company used to purchase the LSE stake.

"The NYSE can chose their currency," Guziec says. "They don't have any debt and can support it, and can mix between shares and debt."

The NYSE has another advantage that likely will be important to the LSE: brand. The NYSE has a solid market reputation that matches the LSE's in Europe. Compare that with the Nasdaq, which would likely use the LSE's brand to promote its own market.

To be sure, the business of trading stocks is evolving quickly, making meaningful analysis of each player's motives an inexact science. While the NYSE could covet a pan-global exchange in which its brand would dominate world markets, it's possible its interest in the LSE is simply a game of chicken.

"Maybe you stay in the process because you want your competitor to really overpay," says Bill Lupien, the retired founder and former CEO of Instinet. "You can make sure that the price the Nasdaq pays is so high that it weakens the company in the long run, and then it makes sense to buy them out later."

That danger is evident in M&A math. The Nasdaq's last full offer for the LSE, at $4.2 billion, was roughly the same as its own market cap. Now that the NYSE has emerged, the Nasdaq would probably need to pay even more to get the whole LSE. In that somewhat contrarian scenario, calling an NYSE's bluff would be costly.